Interest Only BTL Calculator

## Interest Only vs Capital Repayment: The Complete Guide for BTL Landlords

The choice between interest-only and capital repayment mortgages is one of the most important decisions buy-to-let investors face. This comprehensive guide explains how each type works, the cashflow implications, total costs, and how to determine which structure best suits your investment strategy.

### Understanding Interest-Only Mortgages

With an interest-only mortgage, your monthly payments cover only the interest charges on your loan. The original loan amount (principal) remains unchanged throughout the mortgage term.

How It's Calculated:

Monthly Payment = (Loan Amount × Annual Interest Rate) ÷ 12

Example: £200,000 loan at 5.5% interest Monthly payment = (£200,000 × 0.055) ÷ 12 = £916.67

At the end of a 25-year term, you still owe the full £200,000. The total interest paid over 25 years would be £916.67 × 12 × 25 = £275,001.

Key Characteristics: - Lower monthly payments - No equity built through payments (only through property appreciation) - Full loan balance due at end of term - Requires an "exit strategy" to repay capital - Popular with BTL investors for cashflow reasons

### Understanding Capital Repayment Mortgages

With a capital repayment mortgage, each monthly payment covers both interest AND a portion of the principal. Early payments are mostly interest, but over time, more goes toward capital reduction.

How It's Calculated:

The formula uses amortisation: M = P × [r(1+r)^n] / [(1+r)^n-1]

Where M = monthly payment, P = principal, r = monthly interest rate, n = number of payments

Example: £200,000 loan at 5.5% over 25 years Monthly payment = £1,228.04

At the end of 25 years, the loan is fully repaid. Total payments = £1,228.04 × 300 = £368,412, meaning total interest = £168,412.

Key Characteristics: - Higher monthly payments - Builds equity with every payment - Loan fully cleared at end of term - No exit strategy required - Less common for pure BTL investment

### The Cashflow Trade-Off: Comparing Both Options

The monthly payment difference between interest-only and repayment can be substantial:

| Metric | Interest Only | Repayment | Difference | |--------|--------------|-----------|------------| | Monthly payment | £916.67 | £1,228.04 | £311.37 | | Annual cost | £11,000 | £14,737 | £3,737 |

On £1,200/month rent: - Interest-only cashflow: +£283/month - Repayment cashflow: -£28/month

This £311 monthly difference often determines whether a property is cashflow positive or negative - a critical factor for portfolio building.

### The True Cost Comparison

While interest-only provides better monthly cashflow, the total picture is more nuanced:

Interest Only (25 years): - Total interest paid: £275,001 - Principal still owed: £200,000 - Total cost: £475,001

Capital Repayment (25 years): - Total paid: £368,412 - Principal cleared: £200,000 - Total cost: £368,412

Difference: £106,589 more with interest-only (assuming no capital growth or property sale)

However, this comparison assumes: - You'd actually repay the £200,000 at the end anyway - No capital appreciation on the property - You don't invest the monthly cashflow difference elsewhere

### Why Most BTL Investors Choose Interest-Only

Despite the higher total cost, interest-only mortgages dominate the BTL market. Here's why:

1. Maximises Cashflow Positive cashflow is essential for portfolio growth. The £300+ monthly difference can mean the difference between profit and loss, especially in lower-yielding areas.

2. Better Return on Capital Landlords measure returns on their invested capital, not total costs. With interest-only: - Your deposit remains the same - Monthly profit is higher - Cash-on-cash return improves

3. Leverage Capital Appreciation Most landlords expect property values to increase over time. With interest-only: - 100% of capital growth is yours - Property value rises regardless of mortgage type - Growth can fund exit strategy

4. Tax Efficiency For personally-owned BTLs under Section 24, mortgage interest (whether interest-only or repayment interest portion) determines the tax credit. Capital repayment doesn't provide additional tax relief.

5. Portfolio Expansion Better cashflow enables: - Saving for next deposit faster - Meeting lender stress tests more easily - Managing multiple properties sustainably

### Exit Strategies for Interest-Only Mortgages

Since the full loan remains at term end, you need a clear plan to repay it:

Sell the Property The most common exit strategy. If property values have increased: - Sell for market value - Repay mortgage - Keep remaining equity

Example: Buy at £250,000, sell at £350,000 after 25 years - Repay £200,000 mortgage - Net equity: £150,000

Refinance Many landlords simply refinance to a new interest-only mortgage: - Obtain new mortgage on current value - Continue holding property - Repeat until retirement or sale

This works as long as: - Property values support the loan - You meet age and affordability criteria - Lenders continue offering interest-only products

Switch to Repayment Convert to capital repayment later in the term: - Start paying down principal - Higher payments but building equity - Good option if income/rent increases

Downsize Portfolio Sell one or more properties to clear mortgages on others: - Reduces overall debt - Maintains income from remaining properties - Common retirement strategy

Use Other Assets Pay off using: - Savings or investments - Pension lump sum (tax implications apply) - Inheritance or other windfalls - Equity release from main residence

### When Capital Repayment Makes Sense

Despite interest-only's popularity, repayment mortgages suit some investors:

1. High-Yielding Properties If rental yield is strong enough to cover repayment AND provide cashflow, you get the best of both worlds: - Monthly profit - Building equity - Mortgage cleared at term end

2. Lower Leverage Strategy If you have larger deposits and prefer lower debt: - Less risk exposure - Builds wealth systematically - Peace of mind from reducing debt

3. Long-Term Hold & Retire If planning to hold forever and want the property unencumbered in retirement: - No exit strategy needed - Clear ownership at term end - Rental income becomes pure profit

4. Lender Requirements Some lenders, particularly for portfolio landlords or complex cases, may require partial or full repayment.

### Hybrid Approaches: The Middle Ground

You don't have to choose exclusively. Options include:

Part-and-Part Mortgages - Portion interest-only, portion repayment - Reduces debt while maintaining cashflow - Fewer lenders offer this option

Overpayments on Interest-Only - Take interest-only mortgage - Make voluntary capital payments when cashflow allows - Maintains flexibility with discipline

Interest-Only with Planned Switch - Start interest-only for portfolio growth phase - Switch to repayment later when income higher - Structured approach to debt reduction

### Risk Considerations

Interest-Only Risks: - Property values could fall (negative equity) - Lenders may restrict interest-only in future - Age limits may prevent refinancing - Exit strategy may not materialise as planned

Repayment Risks: - Higher payments strain cashflow - Void periods hit harder - Less capital available for portfolio growth - Opportunity cost of capital tied up in equity

### Making Your Decision

Use this calculator to model your specific situation. Consider:

Choose Interest-Only if: - Cashflow is priority - Building a portfolio - Have clear exit strategy - Comfortable with ongoing debt - Property in growth area

Choose Repayment if: - Property yields >7% - Have substantial deposit - Want debt-free by retirement - Lower risk tolerance - Single property investment

Key Questions to Ask: 1. Is the property cashflow positive on repayment? 2. What's my realistic exit strategy at term end? 3. How does my age affect future refinancing options? 4. Am I building a portfolio or buying a single investment? 5. What's my risk tolerance for property value changes?

### The Lender Perspective

Lenders assess interest-only mortgages more carefully:

Exit Strategy Requirements: Most lenders require evidence of how you'll repay, such as: - Property sale (most accepted) - Refinance (less accepted as sole strategy) - Other investments (require proof) - Sale of other properties

Age Restrictions: Many lenders require the mortgage to end by age 75-80. At 50, a 25-year interest-only mortgage may face restrictions.

Stress Testing: Affordability is calculated at higher stress rates (5.5%+), regardless of actual rate. Interest-only is easier to pass these tests.

Portfolio Considerations: Landlords with 4+ properties face additional scrutiny under portfolio landlord rules, including assessment of exit strategies across all properties.

### Current Market Context (2024-2025)

Several factors are affecting interest-only vs repayment decisions:

- Higher interest rates have increased the monthly cost difference between both types - Stress tests at 5.5%+ mean many properties only work on interest-only - Section 24 has no differentiation - both types receive same tax treatment on interest - Lender appetite for interest-only remains strong in BTL sector - Exit strategy scrutiny has increased post-2008 regulatory changes

Use this calculator to understand exactly how interest-only and repayment compare for your target property, then make an informed decision aligned with your investment strategy and risk appetite.